This Biotech Stock Could Be the Next Big Short Squeeze - views

DELAFIELD, Wis. (Stockpickr) -- The biotech sector is back in play on Wall Street in a big way, and anyone short the sector has to be feeling nervous after a major takeover that hit the space on Monday.

Shares of Idenix Pharmaceuticals (IDIX) exploded to the upside on Monday by over 200% after Merck (MRK) said it will buy the company for $3.85 billion in cash to compete in the expanding market for hepatitis C drugs. The boards of both companies have already approved the deal, which is slated to close in the third quarter.

The Idenix takeover news spilled over into another hepatitis C player, Achillion Pharmaceuticals (ACHN), which exploded higher on Monday by 47% as traders looked for sympathy plays. Shares of ACHN are exploding higher again today by over 60% after the FDA removed its clinical hold on sovaprevir, one of Achillion's four experimental hepatitis C drugs. The company also announced it has started initial dosing with ACH-3422, another of its experimental hepatitis C drugs.

Anyone who was caught short Idenix or Achillion, both of which sport very large short interests, is not a very happy camper right now. The current short interest as a percentage of the float for IDIX is 39%, and for ACHN it stands at 35%. The bears took it on the chin in these two stocks, and my guess is that traders will start scanning the biotech sector in search of other heavily shorted biotech stocks that could be ripe for squeezes.

One clinical-stage biopharmaceutical player that caught my eye as I scanned the sector for the next potential short-squeeze candidate is Geron (GERN), which is developing a telomerase inhibitor, imetelstat, in hematologic myeloid malignancies. Telomerase is an enzyme that enables cancer cells to maintain telomere length, which provides them with the capacity for limitless cellular replication. Imetelstat is a specific inhibitor of telomerase.

Shares of GERN are down sharply this year by 54%, and most of that decline is due to the fact that the FDA put a clinical hold on a couple of trials involving imetelstat. The FDA at that time said the hold was due to persistent, low-grade liver function test abnormalities and the potential risk of chronic liver injury after long-term exposure to the drug. That FDA hold was derived out of a phase II trial evaluating imetelstat in essential thrombocythemia. Due to that hold, Geron had to put all its clinical trials on pause, even though the company had previously announced it did not plan to develop imetelstat for commercial use in ET.

The ET trial Geron was doing was a mechanistic proof-of-concept study, so the hold might not mean much in the long run, since it was not for the more targeted diseases the company is focusing on with imetelstat, such as myelofibrosis, myelodysplastic syndromes and acute myelogenous leukemia. This creates a potential catalyst for Geron if the FDA was just simply doing its due diligence on the ET trial and they will eventually lift the hold and allow Geron to move forward with its other trials.

This creates a potentially big trading opportunity for GERN here, since the stock is not just heavily shorted but is also looking very bullish from a technical standpoint.

Shares of GERN gapped down following that FDA hold in March from over $4.50 a share to $1.39 a share with heavy downside volume. Following that gap, shares of GERN have trended sideways and consolidated for over three months, with the stock moving between $1.69 on the downside and $2.53 on the upside. This long consolidation pattern is healthy since GERN has not trended lower and taken out its gap-down-day low of $1.39 a share.

If you take a look at the chart for GERN, you'll notice that this stock has actually been uptrending over the last month, with shares moving higher from its low of $1.69 to its recent high of $2.22 a share. During that uptrend, shares of GERN have been mostly making higher lows and higher highs, which is bullish technical price action. This uptrend has also pushed shares of GERN back above its 50-day moving average of $1.97 a share, which is bullish. Shares of GERN are now quickly moving within range of triggering a major breakout trade above some key near-term overhead resistance levels.

Traders should now look for a long-biased trades in GERN as long as its trending above some key near-term support levels at $1.91 to $1.81 a share or above $1.69 if you want to give it more room and then once it breaks out above some key near-term overhead resistance levels at $2.22 to $2.29 a share and then above more resistance at $2.53 a share with high volume. Look for a sustained move or close above those levels with volume that hits near or above its three-month average action of 5.12 million shares. If that breakout triggers soon, then GERN will set up to re-fill some of its previous gap-down-day zone from March that started near $4.50 a share. A possible upside target I could see this stock hitting easily if it gets into that gap with volume is $3 to $3.50 a share.

If that breakout triggers for GERN, then this stock has some serious short-squeeze potential, since the current short interest as a percentage of the float for this stock is very high at 16.4%. That means that out of the 156.26 million shares in the tradable float, 25.33 million shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 5.4%, or by about 1.29 million shares.

What I love here with GERN is that the bears are continuing to pile into this stock from the short side, while the chart sets up bullishly in an environment where other heavily shorted biotech stocks are exploding higher.

The bottom line: Geron might not have a hepatitis C drug, but it does have a bullish chart setup and a ton of shorts involved in the name. If my thinking is right, then traders will start to come after other heavily shorted biotech stocks following the moves in IDIX and ACHN. Geron is the perfect target since the chart is growing increasingly bullish and the stock is loaded with short-sellers. Plus, the gap lower in March might have been unwarranted, and the FDA could release its hold on imetelstat trials any day now.

At the time of publication, author had no positions in stocks mentioned.

Roberto Pedone, based out of Delafield, Wis., is an independent trader who focuses on technical analysis for small- and large-cap stocks, options, futures, commodities and currencies. Roberto studied international business at the Milwaukee School of Engineering, and he spent a year overseas studying business in Lubeck, Germany. His work has appeared on financial outlets including CNBC.com and Forbes.com. You can follow Pedone on Twitter at www.twitter.com/zerosum24 or @zerosum24.